US: Fed Unconvinced By Strong Recovery Talk

Tonight we will get a further sign that the US economy is doing better than even the country's central bank seems to think, judging by its post meeting statement this week and comments by chairman Bern Bernanke.

The first estimate of fourth quarter economic growth will be released and is likely to show the US economy grew by an annual 3% rate in the December quarter or as high as 3.5% according to some optimists.

Updates next month and in March might see that rate trimmed back, but it will support those analysts who believe the US economy will have a double rebound this year, not the double dip recession that many feared as recently as just before Christmas.

Some analysts say the economy will slow this quarter before expanding more quickly from the middle of the year onwards. But growth could end up around 2% this year because of spending cuts, no more stimulus from Washington and the impact of the euro crisis,

The Fed however doesn't seem to be all that convinced by the stronger growth seen in the past couple of quarters and the change in confidence levels among investors and others.

Speaking at a news conference after a two-day policy meeting, Chairman Ben Bernanke was cautious about recent improvements in the economy and he left the door open to further Fed easings.

"I don't think we're ready to declare that we've entered a new, stronger phase at this point," Bernanke said.

"If the situation continues with inflation below target and unemployment declining at a rate which is very, very slow, then ... the logic of our framework says we should be looking for ways to do more."

That as good a sign as any that he and his colleagues want more evidence that the economy is stronger than they think: which seems to suggest that many US shares are overbought at the moment (or the Fed is being really cautious) and the recent strength in commodity prices is misplaced.

And with its new era of transparency and pledge to hold rates low until late 2014, the Fed sent a further signal to markets that it isn't really convinced by the rosier tone to data and the economy generally.

The new commitment replaces the statement that economic conditions were likely to stay at the historic low range of 0% to 0.25% until at least midway through next year.

The current low rate was set in December 2008, so if it is maintained to late 2014, it will have lasted for an unprecedented six years.

The Fed made no policy steps, leaving the Fed's key interest rate where it has been for three years.

And chairman Bernanke told his first press conference for the year that it is too early to say strong growth is here to stay.

As for the bonds the Fed already holds from its two bouts of quantitative easing, Mr Bernanke said the first sales of those have been pushed back to 2015, a further bull point for low interest rates.

"The Committee expects to maintain a highly accommodative stance for monetary policy," the Fed's Open Market Committee said in the statement.

"Economic conditions -- including low rates of resource utilization and a subdued outlook for inflation over the medium run -- are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.

"While indicators point to some further improvement in overall labor market conditions, the unemployment rate remains elevated.

"Household spending has continued to advance, but growth in business fixed investment has slowed, and the housing sector remains depressed.

"Inflation has been subdued in recent months, and longer-term inflation expectations have remained stable," the Fed said.

The current sluggish recovery has made a small dent in the unemployment rate which is now 8.5%, down more than 1% in two years, but the Fed recognises more has to be done in this area before it can look at lifting rates.

And the housing sector, which is showing more signs of steadying and growth (new and used homes), remains the biggest roadblock, as the repeated use of the word "depressed" to describe the health of the sector.

The Fed also set as its long-term inflation goal is 2%. That's measured not by the CPI, but by the annual change in the price index for personal consumption expenditures (PCE), which is another way of looking through month to month price volatility caused by petrol and food prices.

It's the most explicit the Fed has been in terms of setting an inflation target.

The Fed also forecasts GDP growth between 2.2% and 2.7% this year, an unemployment rate between 8.2% and 8.5% and PCE inflation between 1.4% and 1.8%.

The growth forecast is down from November levels, as are the jobless and inflation views. The Fed sees longer-term rates reaching between 4% and 4.5%, which is presumably closer to 2018-20 than 2014.

In making the new inflation projection, the central bank said the low rate of resource utilization and the subdued outlook for inflation over the medium term are likely to warrant the low rates for almost two more years.

The biggest change in the latest statement was the Fed's description of inflation. The central bank described inflation has "subdued" in recent months. In December the statement only said that inflation had moderated. It's currently running around an annual rate of 1.7% (Australia's is 2.6% by a slightly different method of calculation).

The Fed made no changes to its Operation Twist plan designed to put pressure on long-term rates by selling $400 billion of short-term debt and buying longer-term securities to lengthen the average maturity of securities on its balance sheet.